How to Refinance Your Car Loan and Reduce Your Payments

For many, a car loan is the second largest monthly payment behind a rent or mortgage payment.

Unfortunately:

People don’t always get the best deal when they take out an auto loan.

Thankfully, that can be fixed by refinancing your car loan.

Why You May Want to Refinance an Auto Loan

You may want to refinance an auto loan for many reasons.

Commonly, people want to lower their monthly payment amount. Doing so can free up money that can be used elsewhere within your monthly budget.

That said, lowering your car payment isn’t the only reason to refinance a car loan. You can also lower the interest rate you pay.

Others may want to pay their auto loan off ahead of schedule.

When to Consider Refinancing Your Car Loan

You should consider refinancing your car loan in a few specific situations.

While you can technically refinance your auto loan whenever you want, it doesn’t make sense to refinance unless you can achieve your goals.

1. Interest rates have dropped

If your credit score has remained the same and interest rates on auto loans have dropped since you took out your car loan, it may be a good time to refinance.

New auto loans and used auto loans typically offer different interest rates.

Usually, used auto loans come with higher interest rates.

That means:

Interest rates will need to drop significantly to make refinancing a used car a good idea.

2. You didn’t shop around

Some people simply head to the car dealership when they’re ready to buy a car.

They accept whatever financing the dealership gives them.

The car dealership may have added extra profit to your transaction by increasing the interest rate on the loan they offered you.

Even if they didn’t, car dealerships don’t always offer the best rates.

If you didn’t shop around for your car loan, you may be able to save money on interest payments or lower your monthly payment by refinancing.

Look at what refinancing options banks, credit unions or online loan comparison services offer to see if you can get a lower rate.

3. Your credit score improved

Another way to lower your monthly payment or interest rate is improving your credit score.

Your credit score plays a huge factor in determining your car loan’s interest rate. If you’ve been able to improve your score enough to land in a higher credit scoring category, you could save money.

That said:

Increasing your credit score by just a couple points probably won’t make a big difference.

You’ll need to raise your credit score from bad to poor or good to excellent to see a big difference.

Additionally, if interest rates have increased since you took out your auto loan, improving your credit score may not be able to offset the higher rates.

4. You need a lower monthly payment

Sometimes you simply need a lower monthly auto loan payment. You can usually find a way to get a lower auto loan payment by refinancing your car loan.

You may end up paying more in interest over the life of the loan.

That said:

The higher interest cost is worth the lower payment to many people that need more cash flow immediately.

How Does Refinancing a Car Loan Work?

Refinancing your car loan is a relatively easy process.

Once you get approved for a loan to refinance your car loan, one of two things will happen.

Your lender will either give you the money to pay off your old auto loan or your new lender will send money to your old lender to pay off the auto loan.

While you’re in the process of refinancing your car loan, make sure you stay current on your old car loan’s payments.

If you stop making payments before the process is complete, you may end up with a late payment fee or a late payment on your credit report.

After the old car loan is paid off, your old lender will remove their lien from your car’s title and transfer it to your new lender which will add their lien to your car’s title.

Once the process is complete, you’ll start making payments to your new lender for your new auto loan.

Loans You Can Use to Refinance an Auto Loan

You can use many types of loans to refinance an auto loan. Typically, used car loans, personal loans and home equity loans or lines of credit are used. Here’s what you need to know about each type of loan.

Used car loan

Refinancing a car using a used car loan is the normal way to refinance a car.

One common misconception of refinancing an auto loan:

You’ll be able to get new auto loan interest rates.

Dealerships often offer 0% or 0.9% financing to help sell new cars, but these offers aren’t available when refinancing a car loan. In fact, you must buy a new car from the dealership to even have a chance of getting a 0% APR auto loan.

In reality:

Your best bet is to go shop for a used auto loan that fits your needs.

Some lenders may place restrictions on the cars you can refinance using a used car loan.

For instance, a big lender may only allow you to refinance cars that meet some or all of the following criteria:

  • Must be seven years old or newer
  • Have less than a certain number of miles
  • The current auto loan balance is within a certain dollar range such as $7,500 to $50,000

Some lenders won’t offer a refinance auto loan if you currently hold your auto loan with that lender, either.

Personal loan

Another way to refinance a car is using a personal loan.

The funds you receive from many types of personal loans can be used for any purpose including refinancing a car.

Typically, personal loans are unsecured loans. This means you don’t have to put your car up as collateral and your car won’t be repossessed if you miss payments.

The unsecured nature of personal loans means the lender is taking a bigger risk. It also means you’ll likely pay a much higher interest rate than with a secured used auto loan.

It is unlikely that you’ll be able to lower your monthly payment by refinancing using a personal loan but it may be possible in rare circumstances. Still, it doesn’t hurt to check out your personal loan options to make sure.

Home equity loan or line of credit (HELOC)

A home equity loan or home equity line of credit could be options to refinance your car if you owe substantially less on your home than it’s worth.

These loans offer relatively low interest rates.

They also allow you to spread out your monthly payments over a longer period than most auto loans. Some options may allow you to make payments over five to thirty years.

That said, spreading a payment out over such a long period of time will result in paying more interest than a shorter loan term if interest rates are the same.

However:

The longer you stretch out the repayment period the lower the monthly payment will be.

Should You Refinance Your Auto Loan?

Refinancing an auto loan is only worth the hassle if you’re able to achieve the goal you want to accomplish. Here’s how to tell if you’re achieving the two typical goals of refinancing.

If you want a lower monthly payment, only refinance if you can lower your payment.

Be aware:

Lowering your payment will likely increase the total cost of your auto loan.

If you want to save money over the life of your auto loan, you’ll need to run the numbers. Just because you get a lower interest rate doesn’t necessarily mean you’ll save money if you’re near the end of your auto loan.

You can calculate whether you’ll pay more or less for your new auto loan through a simple exercise.

First, multiply your current payment by the number of payments remaining. Then, add any fees you’ll have to pay until your loan is paid off.

This is how much your current auto loan will cost you.

Next, multiply the payment of the loan you’re considering using to refinance your car loan by the number of payments the loan requires. Add any fees you have to pay to refinance and through the term of the loan.

This is the total cost of refinancing your auto loan.

Subtract the total cost of refinancing your auto loan from the total cost of your current auto loan.

If the number is positive, you’ll save that much money by refinancing.

If the number is negative, you’ll pay that much more over the life of the loan by refinancing.

Make Sure You Shop Around

Regardless of which type of loan you decide to use to refinance your car loan, make sure to shop around.

Consider getting quotes from banks, credit unions, online loan comparison tools and even peer-to-peer lending sites.

Once you have multiple loan quotes, pick the option that best helps you achieve your goal.

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